COMMERCIAL BANK MANAGEMENT

In every country, banking system is regulated by some authority in terms of laws of that country concerned. In the United States of America, the banking system is regulated by Federal Reserve Board (FRB). In United Kingdom, the banking system is regulated by Bank of England in spite of the fact that the banking is defined by in the United Kingdom. The banking system in India is regulated by Reserve Bank of India (RBI) which is also termed as Central Banking Authority in the country. The RBI regulates the banking system in terms of RBI Act 1934 and Banking Regulation Act 1949.

COMMERCIAL BANK MANAGEMENT

The banking system deals with peoples money and it is necessary to generate, maintain and promote the confidence and trust of the people in the financial/banking system. This is done by preventing and curbing the possibility of misuse of the financial/banking system. In case of failure, the people will loose the trust and faith in the financial/banking system which can have serious implications for the economy of that country. Therefore, the rationale behind the regulation of financial/banking system is:

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To generate, promote and maintain confidence and trust of the public in banking/financial system. To protect the interest of the investors through adequate and timely disclosure by financial/banking institutions. The investor should also have access to the revenue in formations To ensure that financial markets are both fair and efficient. To ensure that participants must adhere and follows the rules and regulations of the market. In a developing country like ours, the role of the regulator i.e. RBI is very crucial in achieving these objectives.

RESERVE BANK OF INDIA

To achieve these objectives, RBI has created many departments. Some of the important departments are: Customer Service Department. Department of Banking Operations and Development Department of Banking Supervision Department of Currency Management Department of Economic & Policy Research Department of Expenditure & Budgetary Control Department of Government and Bank Accounts Department of Non-Banking Supervision (DNBS)

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Department of Payment and Settlement System Department of Statistics and Information Financial Markets Department Exchange control Department Inspection Department Internal Debt Management Department Urban Banks Department

RESERVE BANK OF INDIA

The main objectives of RBI contained in the preamble of the RBI Act, 1934. It reads, Whereas it is expedient to constitute Reserve Bank for India to regulate the issue of bank notes and keeping of reserves with a view to securing monetary stability in India and generally to operate the currency and credit system of the country to its advantage. Hence the main objectives of RBI are: The most important objective of the RBI is to promote growth and maintain the price stability. To maintain the monetary stability so that the business and economic life can deliver welfare gains of a mixed economy.

RESERVE BANK OF INDIA

To maintain financial stability and ensuring the sound health of financial institution so that economic units can conduct their business with confidence. To maintain stable payment system, so that financial transactions can be safely and efficiently executed. To ensure that by the financial system reflects the national economic priorities and social concerns. To regulate overall volume of money and credit in the economy to ensure a reasonable degree of price stability. To promote the development of financial markets and systems to enable itself to operate/regulate efficiently

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To ensure that orderly conditions are maintained in the foreign exchange market and the exchange rate is not subject to excess volatility. Functions of Reserve Bank of India The essential functions of RBI, to achieve its objectives, are: Issuing Currency Notes. The RBI has the sole authority to issue, circulate, withdraw and exchange the currency notes. Presently, RBI has issued and put in circulation, note in the denomination of Rs. 1,2,5,10,20,50,100,500 and 1000.

RESERVE BANK OF INDIA

The RBI is not authorized to issue 1 rupee note and coins. The Government of India is empowered to issue 1 rupee note and coin as one rupee note and coin is the legal tender money of India. Due to this reason the currency notes are signed by the Governor RBI and one rupee note bears the signature of the Secretary, Government of India. These one rupee notes and coins are put into circulation by the RBI. Presently, the RBI has discontinued the printing of one rupee note.

RESERVE BANK OF INDIA

The RBI has also started minting coins of denomination of Rs.2, 5 and 10. The RBI has about 20 Issue Offices, over 4300 currency chest and more than 4000 small coin depots. Most of the currency chests are kept in custody of various banks that function as agents of the RBI. As a cover for note issue, RBI keeps a minimum value of gold coins and bullion and foreign securities as part of total approved assets. Governments Bank- The RBI acts as the banker to the Central and State Governments.

RESERVE BANK OF INDIA

As a banker to the Government, both State and Central, it provides them banking services of deposits, withdrawal of funds, making payments an receipts, collection and transfer of funds and management of public debt. The RBI neither pays interest on Govt. deposits nor charges any remuneration for these services. The RBI also allows overdrafts to the State as well as Central Government under ways and means advances, subject to certain rules and limits on the amount of overdrafts. This is done as per Central Government decision, in order to contain the fiscal deficit.

RESERVE BANK OF INDIA

The RBI charges commission for managing the public debt and interest on overdrafts from the State and Central Government. Bankers bank- The RBI, like all other commercial banks, acts as a bankers bank. All the banks in India have to maintain their accounts with RBI. All commercial banks, scheduled banks (appearing in the Second schedule of RBI Act) have to maintain, the stipulated reserves in cash and in approved securities as a percentage of their net demand and time liabilities(NDTL). These reserves are called Cash Reserve Ratio (CRR) and Statutory Reserve Ratio (SLR).

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Lender of the last resort- It also acts as a lender of the last resort for banks. When banks are in needs of funds, they approach RBI and get their bills rediscounted or through refinance mechanism or through REPO (Repurchase Option) Banks supervision- Till November 1993, the RBI was performing the supervisory function for the banking system. After 1993, this function has been separated from RBI. In 1994, Board of Financial Supervision (BFS) has been established to oversee Indian Financial System, comprising not only banking, but also All India Financial Institutions and Non-banking financial companies (NBFCs).

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The BFS is chaired by the Governor of RBI and consists of a full time Vice-chairman, and six other members. The RBIs supervisory powers are: To issue licenses for setting up new banks, and for establishing new branches for existing banks. To prescribe minimum requirements of paid up capital and reserves, and maintaining cash reserves and other liquid assets. To inspect the working of the schedule commercial banks in India and abroad, from all relevant angles to ensure their sound operations.

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To conduct investigations into complaints, irregularities, frauds pertaining to banks. To control appointments, reappointments, termination of Chairman & managing directors, executive directors and Chief Executive officers of banks, both public sector and private sector. To approve or compel amalgamation/merger of two banks. The latest example is merger of Global Trust Bank with Oriental Bank of Commerce in 2004. Development of Financial System The RBI also has a developmental role, other than the regulatory and supervisory role, over the banks.

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The RBI has created specialized financial institutions for different sectors of the economy. They are: Industrial Finance: The Industrial Development Bank of India (IDBI) was established in 1964 and Small Industries Development Bank of India (SIDBI) for development of large and small industries. Agricultural Credit: National Bank for Agriculture and Rural Development (NABARD) was established in the year 1981 to look after for the development of agriculture sector.

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Export: Export-Import Bank of India (EXIM Bank), a specialized financial institution was created to develop the international trade. Deposit Insurance Corporation of India (DIC) was created in the year 1961 to protect the interest of the small depositors. Later on it became Deposit Insurance and Credit Guarantee Corporation of India (DI&CGI). The RBI has also initiated many other schemes concerning various aspects of banking. They are;

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Bill Market Scheme of 1952 and New Bill Market Scheme of 1970. Under the Bill Market scheme 1952, RBI was granting loans to commercial banks against their demand promissory notes supported by the approved Usance bills of their customers. Under the New Bill Market Schemes, RBI rediscounted genuine trade bills. The genuine trade bills are those which represent the actual evidence or sale and dispatch of goods. Lead Bank Scheme: In 1969, after nationalization of 14 banks, the Government took the steps in extending the banking system to rural areas.

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In this scheme all nationalized banks and some private sector banks were allotted a few districts and were asked to play the lead role in developing those districts. Tandon Committee: In 1974 a study group under the chairmanship of Mr. P. L. Tandon was constituted for framing guidelines for commercial banks for follow-up & supervision of bank credit for ensuring proper end-use of funds. The group submitted its report in August 1975, which came to be known as Tandon Committees report. Its main recommendations related to norms for inventory and receivables, the approach to lending, style of lending and follow ups & information system.

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In 1960, Credit Authorization Scheme and Consortium Financing Scheme in 1970 were introduced which were discontinued after liberalization in 1991. The latest initiative of RBI is to bring NBFCs under their control. Now all NBFCs has to functions certain rules and regulations prescribed by RBI. Exchange Control The RBI is responsible for maintaining stability of the external value of the Indian Rupee. It used to regulate the foreign exchange market in the country as per the Foreign Exchange Regulation Act (FERA), 1947.

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This Act was later on amended in 1973. The FERA, 1973 is now replaced by Foreign Exchange Maintenance Act 1999 (FEMA) due to implementation of Narasimham Committee recommendation on Financial Sector reforms. As per FEMA, 1999, RBI performs the following tasks: It administers foreign exchange control through its Exchange Control Department (ECD). It authorizes banks, specified branches and other dealers, called Authorized Dealers (Ads).

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The Authorized Dealers are those entities which are authorized by RBI to deal in foreign exchange transactions. The RBI manages exchange rate between the Indian and Foreign currencies, by buy and selling foreign exchange to/from the Authorized Dealers and other means. The RBI also manages the foreign exchange reserves of the country and maintains reserves in the form of gold, bullion and foreign securities which are issued by Governments of other countries and the international financial institutions.

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Monetary Policy- One of the most important role of RBI is to control the money supply, the volume of bank credit and also the cost of bank credit. By this, RBI overall control the money supply in the system. The change in the volume of money supply is a technique to control the inflationary or deflationary situations in the economy. Tools of monetary control used by RBI The RBI has various tools to control the money supply in the economy for controlling inflation or deflationary situations.

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The inflationary situation is when general price level increases and the deflationary situation is when the general price level falls. The various tools used by RBI to control the money supply in the economy are: Cash Reserve Ratio (CRR): All banks (scheduled and non-scheduled) are under obligation as per Banking Regulation Act 1949 to deposit a certain proportion of their net demand and term liabilities (NDTL) in the form of cash with the RBI.

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The demand liabilities are current accounts and saving bank accounts and the term or the time liabilities are term deposits (fixed deposits). This proportion is specified by RBI and could change from time to time. The present CRR is 4% of the NDTL w.e.f. from 29.1.2013 (reduced from 4.25%). When the money supply in the economy increases and results in inflationary tendencies, RBI increases the CRR and vice versa.

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An increase in the CRR reduces the loanable funds with the banks and reduction in CRR increases the loanable funds. At present, banks are not getting any interest on the CRR balances kept with RBI. The CRR is governed by Section 42 of Reserve Bank of India Act, 1934. Statutory Liquidity Ratio: The SLR is that proportion of a banks Net Demand and Time Liabilities (NDTL) that it has to maintains investment in certain specified assets (cash, precious metal i.e. gold and bullion and approved securities like bonds issued by Central Govt., State Govt etc.

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The SLR is governed by Section 24 of the Banking Regulation Act, 1949. Earlier there was a minimum stipulation of 25% but this was removed with an amendment to the Banking Regulation Act in 2007. However, SLR cannot exceed 40%. The SLR determined and maintained by RBI in order to control the expansion of bank credit. The current SLR is 23%. The SLR has three objectives i.e. to restrict the expansion of bank credit, to increase banks investment in approved securities and to ensure solvency of banks.

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Increase in SLR results in the reduction of the lending capacity and vice-versa. Bank Rate: Bank Rate is rate of interest at which banks borrow money/funds from Central Bank/RBI without any sale of securities. It is generally for a longer period of time. This is similar to borrowing money from someone any paying interest the amount. In other words, Bank rate is the standard rate at which the RBI is prepared to buy or rediscount bills of exchange or other eligible commercial papers from banks.

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It is basic cost of rediscounting and refinance facilities provided by the RBI. Open Market Operation: When RBI buy or sell the Govt. securities (both Central & State) in the open market with a view to increase or decrease the liquidity in the banking system. This has an effect on the loanable funds with the banking system. When RBI observes that there is excess of liquidity in the system, it starts selling the securities. In case of shortage of liquidity, it starts buying the security which results in pumping of liquidity in the system.

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Selective Credit Control: The SCC means that RBI intends to control loans and advances against certain selective commodities. The RBI has power under Sec 21 and 35A of Banking Regulation Act to issue such directives. The sensitive commodities are pulses, other food grains, oilseeds, oils including Vanaspati, all imported oil seeds and oils, sugar including imported sugar, gur, khandsari, cotton/kapas, paddy/rice wheat etc. The objectives of selective credit controls are to prevent speculative holding of essential commodities which results in a rise in their prices.

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The RBIs general guidelines on selective credit controls are: Banks should not grant loan and advances to their customer who are dealing in commodities comes under SCC or any other credit facilities, including those against book debts/receivables. The banks are also not supposed to grant loan against the collateral securities, such as insurance policies, shares, stocks and real estate, which would defeat the purpose, directly or indirectly, of selective credit control. The credit limit granted against each commodity covered by SCC directives should be segregated and the SCC restrictions be applied to each of such segregated limits.

BANKING SECTOR REFORMS

Post-Liberalization Era- In 1991, the Indian economy faced greater challenges and therefore, it adopted the path of liberalization by bringing several economic reforms in general and banking sector in particular. The banking sector in particular had undergone tremendous changes during the process. A committee under the chairman ship of Sh. Narasimham was set up. This committee was set up on financial sector reforms. The purpose was to bring efficiency in the banking operations.

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Several policy decisions based on the report submitted by this committee on financial sector reforms were introduced. The major reforms included: Achieving prescribed capital adequacy ratio, Phased reduction of Cash Reserve Ratio and Statutory Liquidity Ratio, Setting up a board for financial supervision, greater autonomy to the bank and encouragement to private sector to come into banking operations. This brought about competitiveness, reduction in the level of non-performing assets.

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The first phase of banking sector reform which began in 1992 was focused on The transparent accounting norms, Cleansing the balance sheet, Reduction in the statutory pre-emption of resources of banks, and deregulation of interest rates. The following were the areas indentified for bringing desired improvements: Liberalization of interest rates on deposits and loans and advances. Phased reduction in statutory reserves.

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Encouraging private sector to banking operations for bringing more efficiency in services and also the spirit of competitiveness. Bringing transparency in financial reporting. Fixing capital standards as per Basel Accord Capital Standards. Fixing prudential norms for asset classification, income recognition and provisions for bad debts. Added focus on reduction of non-performing assets (NPAs) Bringing operational autonomy Diversification of banking operations

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Improved profitability and efficiency Better supervisory arrangements for banks by RBI Added focus on IT related services Disinvestment of public ownership. After implementation of reform process in the first phase based on Narasimham Committee recommendation, the committee submitted second report for implementation. This was known as second generation reform. The thrust of which was on improving the organizational effectiveness.

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In the second phase emphasis was laid on the following measures: Reduction of Govt. stake in banks to 33 per cent. Stricter prudential norms Greater emphasis on asset-liability management Introduction of narrow banking concept to rehabilitate weak banks. Setting up of the Asset Reconstruction Fund Integration of NBFCs with financial system Consolidation of the banking industry by merging weak banks with strong bank. Focus on rationalization of staff strength and branches.